Editorial

Fixing Canada's productivity gap (2)

The Globe & Mail – Editorial – Monday, November 7, 2005 Page A16

Productivity may be a notion that only an economist could love. But Canada's serious productivity problems now compel at least respectful and immediate attention. With growth at dismal levels, with competitors encroaching on Canada's trading turf, Ralph Goodale plans to tackle this formidable challenge in his Nov. 14 economic statement. In effect, the Finance Minister must foster a climate in which a smarter work force can produce ever-higher-value goods with state-of-the-art equipment and technology before Canada's standard of living falters.

It is a fiendishly complicated task. And, as senior finance officials have wearily conceded, there is no silver bullet. But Mr. Goodale's reforms could start at home, on his own federal turf. Private-sector firms are ultimately responsible for ensuring that their goods and services retain a competitive edge. But if taxes and regulations get in the way -- if they heap too much onto the basic cost of doing business -- foreign firms simply go elsewhere. Domestic firms watch their market share erode as government drains their attention and their spare cash. So, to kick-start Canada's dismal productivity growth, Mr. Goodale could start by simply getting out of the private sector's way.

He could start with the needlessly punitive hodgepodge of corporate taxes. In a startling report two months ago, the C.D. Howe Institute declared that Canada has the dubious honour of having the second-highest tax rate on business investment for large and medium-sized corporations among 36 nations, including the United States. That was a wake-up call. Mr. Goodale had planned to eliminate the corporate surtax for larger firms by 2008 and then trim the corporate income-tax rate itself for larger firms from 21 per cent to 19 per cent by 2010. However, although the surtax was removed for smaller firms,further cuts were thwarted by the New Democrats.

That omission was a huge mistake. Ottawa calculates that if the cuts had proceeded, the tax advantage over the United States would have been 4.5 percentage points in 2010. As it noted in its February budget, "a strong signal to investors is necessary to influence the location of investment." Corporate tax cuts should, in fact, be brought forward faster.

Ottawa could also speed up the scheduled removal by 2008 of its tax on capital. That wrong-headed tax is actually levied on the value of the company's capital stock, such as debt and shareholders' equity. In effect, a company is penalized for increasing its assets. As well, Ottawa could permit faster writeoffs of capital costs in more sectors. In 2004, it increased the annual value of the writeoff for computer equipment; this year, it extended faster writeoffs to such areas as hydrocarbon pipelines and telecommunications cables. These may sound like tiny techie adjustments, but tax rates are among the key items that companies ponder closely when they consider new or additional investments. Ottawa could also stop what amounts to the double taxation of dividends.

Then there is the issue of personal income taxes. If the productivity strategy requires that Canadians work and save and invest, why do some taxpayers with families who earn between $20,000 and $50,000 a year face marginal tax rates as high as 60 per cent? Why on Earth would anyone bother to get additional training if taxes bit into any extra income to such a degree? And would it not be easier for Canada to retain skilled scientists or physicians if the top tax bracket did not kick in at a comparatively low level of $115,739? To remove such powerful disincentives, Mr. Goodale could lower the four federal tax rates, which range from 16 per cent to 29 per cent, or raise the levels of taxable income at which they apply.

He could also pay close attention to the regulatory impediments that can play havoc with a company's bottom line. One of the worst is the sheer number of regulators overseeing stock markets. Mr. Goodale has urged his 13 provincial and territorial counterparts to establish a single national securities regulator with a single code so that companies do not need to deal with separate regulators and documents each year. The last federal-provincial ministerial meeting on this issue occurred in late September, producing "modest results." But the bottom line is that ministers are still talking, not acting. Meanwhile, any regulatory maze deters the entry of foreign firms and impedes the expansion of domestic ones.

A key goal in any productivity strategy must be to entice foreign firms to invest in Canada. That would help ensure that Canadian products find and keep their place in what are now called global value chains, because those foreign firms would slot Canadian products and processes into their output. Today, close to one-third of world trade takes place within firms.

But, as the Conference Board has glumly noted, Canada's share of foreign direct investment is less than half of what it was in 1980. Canada, in fact, has somehow managed to slap the second-highest level of regulations on inflows of foreign direct investment within the Organization for Economic Co-operation and Development. True, there are few barriers to investment in manufacturing or business services. But there are big ones around the transportation, telecommunications, electricity and banking sectors. Mr. Goodale sent a deliberate signal of openness to the world last February when he abruptly dropped limits on the amount of foreign property that pension funds and RRSPs could hold. It is time to consider further movement.

In the end, Canada is better positioned than many nations as it tackles its productivity challenge. It is the only G7 nation that is running a financial surplus in the government sector. Federal debt is expected to plummet to 25 per cent of GDP by the middle of the next decade. But somehow, amid the difficult politics of a minority government, amid the complacency that today's prosperity fuels, Canada is slipping behind. If Mr. Goodale wants to succeed in the challenge of his career, he must first get his own government out of prosperity's way.